Last year the number of UK businesses collapsing into bankruptcy hit a four-year high as one in every 213 companies fell into liquidation. Official insolvency figures show that 17,243 companies entered insolvency last year, a rise of 4.2% on the year before. These are the highest figures since 2013.
Many businesses fail to survive because of late payment, which can cause cash to dry up and slow down the production process. When invoices are not paid on time, the supply chain becomes severely strained and to prevent this from happening businesses can deploy different measures to protect themselves from cash flow problems.
Reverse factoring, which involves a provider advancing payment to its clients’ suppliers at an accelerated rate, is one of these measures that keeps the cash rolling in. However, before we go into the detail of reverse invoice factoring, it’s vital to know the difference between invoice discounting and factoring.
Invoice Discounting and Factoring
Invoice discounting and factoring are both sub categories of invoice finance, which releases the funds tied up in unpaid invoices. Put simply, the funder advances the business up to 100% of the value of the invoice within 24 hours and then pays the balance of the invoice or the second installment once the it has been paid by the customer, minus service fees. Invoice finance is a fast, flexible and simple solution for companies wanting to speed up the payment cycle to ease cash flow problems as it releases the value locked in the sales ledger before the customer has even paid.
The main difference between discounting and factoring is who manages the sales ledger and retains control of the credit control and collections process. For instance, with factoring the funder assumes responsibility for managing the sales ledger, credit control and chasing customers for payment. Whilst with invoice discounting, the business retains control of its own sales ledger and chases payment in the usual way.
Another major difference between discounting and factoring is disclosure or confidentiality. With factoring the customer settles their invoice directly with the funder. Therefore, customers are aware of the factoring arrangement, but with discounting, customers still pay the business directly and there is no need for them to know a third party is involved.
How does Reverse Factoring Work?
Reverse factoring has its origins in the car industry, with large car-markers wanting to improve the cash flow situation of their suppliers. The system allowed car manufacturers to work more efficiently with smaller suppliers in an industry where late payment was a major concern and in some instances a stumbling block to doing business.
Reverse factoring involves larger companies agreeing to pay a funder the full value of outstanding supplier invoices. The funder immediately pays the supplier what is owed to them, rather than have them wait 30-90 days for payment, which are commonly used payment terms..
Reverse factoring is normally available to small suppliers that have established a long-term trading relationship and goodwill with a larger company, such as a car-maker or retailer, for instance.The mechanism enables suppliers to be paid on time as well as stabilising the supply chain in return for a fee and low interest rates from larger companies and funders. That said, a funder will only get involved in a reverse factoring arrangement, if there is a considerable amount of factoring, which is why the system remains unavailable to smaller companies.
Who Benefits From Reverse Factoring?
- Funders charge fees and low interest on the amounts advanced
- Larger companies develop robust working relationships with smaller businesses to retain reliable suppliers
- Suppliers benefit from regular injections of working capital
- Suppliers are able to grow by keeping cash rolling in
- The supply chain remains stable by ensuring suppliers don’t go out of business as a result of late payment
If you would like to know more about the benefits of using reverse financing on the supply chain, please call 08000 746 757 or email [email protected] for free and confidential advice from one of our professional advisers.